CQ_WTC.jpgRising labour costs and overheating property markets in China's big coastal cities are causing more foreign firms to favour second-tier cities whose names are still largely known outside of China.

That's the conclusion of this article on Asiared, a Spanish-language website, which describes how cities like Hangzhou, Tianjin, Chengdu, Nanjing, Dalian and Wuhan are attracting more and more foreign direct investment (FDI).

The rise of Chongqing (pictured above) in south-central China has been particularly dramatic. In the last four years, more transport infrastructure has been constructed in Chongqing than in the previous century.

By GDP, Chongqing is already bigger than European countries like Slovenia or Croacia, and its metropolitan area, with 31m inhabitants, is second only to Tokyo in size.

Consultants like McKinsey now advise foreign businesses to consider China's second-tier second cities over the better-known coastal metropolises of Shanghai, Shenzhen, Guangzhou and Beijing.

Not only are labour costs lower -- by up to 20% or 30% -- but property is more plentiful in these second-tier cities and big improvements in infrastructures have helped dispel the frontier-town image.

Many multinationals in the IT, telecoms and transport sectors have already made the move.

For example, Hangzhou is now home to General Motors, Merck, Motorola, Bosch, Siemens, Panasonic and Toshiba. In Chengdu you can find Intel, Sony, UPS and Sanyo.

Chongqing is teeming with multinationals including Nokia, ABB, Ericsson, Honda, Suzuki, Isuzu, Yamaha, Mobil, BP and Samsung.

Sometimes, the firms have had little choice about their destination. Ford was coerced to set up in Chongqing even though the US company favoured Shanghai. Citroen was told to go to Wuhan, but the location has not proved to be a lasting problem as Wuhan is now home to many suppliers of Citroen.

The trend for western firms to set up shop inland is likely to gather more momentum, argues Klaus Koehler MD of HK-based consultancy Klako Group. He says:

China is clearly concerned to reduce the economic imbalance opening up between its first and second-tier cities."

He believes these concerns are likely to lead to more policy changes designed to redress the balance and reduce the incentives that first-tier cities have used to attract FDI so effectively.

One of the consequences of China's huge success in attracting FDI is that the property prices has shot up in first-tier cities like Beijing and Shanghai. MR Koehler says:

Nowadays it is very difficult to get good quality industrial space in Shanghai, either because the industrial parks are full or because prices are too high. This lack of availability and high pricing has forced many companies to look to other locations beyond Shanghai."

This creates particular problems for the SMEs, which have arrived late to the China fiesta. Many have only recently given serious consideration to the impact that China will have on their business.

Despite their size and lack of resources, SMEs realise that they have no choice but to be in China -- often because their largest customers are already there. But now they must give a lot more thought to the choice of location and a second-tier city may be more appropriate.

Of course, the second-tier cities do have disadvantages. Disposal incomes are lower which limits opportunities in the consumer market -- although that has not stopped Carrefour's plans to open 22 stores in second-tier cities.

A bigger problem for foreign firms, perhaps, is finding qualified and experienced employees, particularly ones who can speak good English. These cities also have no foreign schools for children of the foreign managers.

For those who can't tell Chongqing from Chengdu, Klako Group has published a report on China's second-tier cities with useful facts on each one. For the brave, it also mentions China's third-tier cities, which are catching up rapidly but where foreigners will need a good dose of pioneer spirit.

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